The Bank of England voted unanimously to keep its base rate at 3.75% on Thursday, but the decision arrived with a warning that the ongoing war in the Middle East is pushing the UK toward a fresh cost crisis that could force borrowing costs higher within months. The monetary policy committee described the US-Israel conflict against Iran as a new economic shock, with rising global energy prices threatening to push UK inflation above 3%. The announcement marked a stark reversal from the rate-cutting environment that had seemed close just weeks before.
The war’s impact on global oil and gas markets has been swift and significant. Energy prices have surged since hostilities began, directly threatening the disinflationary progress the UK had been making throughout the previous months. The Bank of England now projects inflation climbing to approximately 3.5% in March and remaining above its 2% target throughout 2026, a dramatic change from forecasts made before the conflict erupted.
Governor Andrew Bailey said the effects of the war were already being felt by UK consumers, most visibly at petrol stations across the country. He warned that if energy supply disruptions continued through the year, household bills could rise sharply in the second half of 2025. Despite his hawkish framing, he urged financial markets not to assume that rate hikes were automatic or imminent.
Financial markets were not persuaded by the governor’s caution. UK gilt yields climbed, the FTSE 100 fell, and the pound strengthened against the dollar as traders priced in a quarter-point rate hike as early as June, with a second potentially before year end. Analysts noted that five-year fixed mortgage rates had already moved to their highest levels since early 2025.
The political consequences of the Bank’s changed stance are significant. Labour’s economic strategy was premised on a declining rate environment that would stimulate growth and ease household finances. Rising borrowing costs directly threaten that narrative, while opposition parties have wasted no time in laying blame for the changing economic picture. Chancellor Reeves faces growing pressure to respond with targeted support for households most exposed to rising energy and mortgage costs.